The potential impact of the largest IPO in history from a compliance centered perspective

An initial public offering (IPO) of the Saudi Arabian national oil company, Saudi Aramco, would be the largest in history, worth US$100 billion if estimates are correct. This is a staggering amount that dwarfs Chinese retail company Alibaba Group’s US$25 billion offering, the largest IPO to date. Other large IPOs have included those of ICBC, Visa, AIA, Facebook and General Motors, all of which topped US$15 billion. An IPO of Saudi Aramco’s proportions will undoubtedly have a significant effect on the way IPOs are handled in the Middle East and on attitudes about compliance in the region.

Oil prices are still relatively low and this is having profound effect on the looming Saudi Aramco IPO. Barrell prices are hovering just above US$50, mainly because of the success of US-based fracking, diminishing US dependence on Middle Eastern oil, and creating a glut of supply on the global market. The combination of the decreased supply vs demand ratio and low prices are causing Saudi Arabian sovereign wealth funds to be steadily drained. This when taken in context of the fact that the clear majority (approximately 77 percent) of Saudi Arabia’s revenue comes from oil production, has caused leaders to create Saudi Vision 2030, a plan to diversify the country’s economy. Forward thinking government leaders that were smart enough to fill the country’s coffers with oil money during the heydays of high oil prices are wise now to be hedging their bets on prices rising in the future. There is a new understanding of the problem of having so much of the country’s prosperity tied to the oil industry. This new vision comes at a time when Saudi citizens are paying more at the gas pump as subsidies are being removed on fuel, electricity and water. Saudi Arabia is looking to diversify its holdings with this IPO.

The IPO is expected to value Saudi Aramco at US$2 trillion, a figure that could increase as the offering nears and market conditions change. Although details are still uncertain, the Saudi government is expected to float 5 percent of the company on the Riyadh stock exchange, the Tadawul, and one additional international stock exchange. Many expect this will be the New York Stock Exchange, but the decision has not been confirmed.

The Singapore, Hong Kong, London and Toronto stock exchanges also seem to be in the mix, although they are popularly considered far less likely listing options. The exchange ‘underdogs’ are currently thought to be exploring regulatory changes that would allow Saudi Aramco to be exempted from certain incompatible or overly onerous listing requirements. As the battle for high-value international listings among exchanges reaches fever pitch, the temptation to dilute regulations for dual listings will only grow more compelling.

Recently, the United Kingdom’s Financial Conduct Authority (FCA) announced that it was considering the provision of a fresh listing module for international companies; enabling them to obtain a London Stock Exchange listing in absentia of several historically key aspects of domestic Compliance & governance criterion. The FCA communique indirectly points to the very clear and realisable danger of a wide scale regulatory slide, fueled by a host of circumstantial factors including but not limited to the appeal of the listing prospect, aspects of financial deregulation in the United States and commerce linked Brexit trepidation.

Ultimately, the choice of stock exchange will have an enormous effect on the level of transparency. Saudi Aramco publishes very little information about its reserves, finances and activities, including how much of the oil revenue is diverted back to the Saudi royal family. This lack of disclosure is not uncommon for companies in the region or any other global privately owned company. Listing the shares on an international stock exchange would require Saudi Aramco to publish much more information, thereby becoming more transparent about its activities. Under rules in the United States, for example, all publicly listed companies are required to have a code of conduct, audit committees, corporate governance controls, policies on risk topics (conflicts of interest, insider trading, etc.) and certain controls for financial reporting. Companies must also disclose any non-compliance with New York Stock Exchange requirements. The NASDAQ listing requirements are similar in terms of compliance obligations.

The financial markets have been speculating that the IPO will take place in the third quarter of 2018, but it might be delayed due to the company’s efforts to streamline the organisation to prepare it for listing. This involves spinning off activities that are not considered to be core and getting its books sorted out to improve its financial transparency. Transparency is indeed needed if Aramco is to achieve the gains it is hoping for.

Corporate governance impact

As part of the rumoured IPO, Saudi Aramco is expected to introduce a tighter corporate governance structure. As a natural consequence, this is expected to bring about more transparency and added controls to prevent or detect potentially corrupt acts in the company. There are several positive examples with other national oil companies where a listing of some shares has brought about more transparency and lower levels of corruption. These include Norwegian Statoil, Colombian Ecopetrol and Kazakhstan’s KazMunaiGas, all of which have been increasing their performance and revenue after offering a portion of their shares to the public.

However, there have also been compliance issues for national oil companies that have a minority of shares listed on an international stock exchange. The most well-known example of this is Brazil’s Petrobras, which, despite the compliance requirements of the New York Stock Exchange, has been the centre of a large-scale international corruption scandal. A public listing alone does not guarantee less corruption in a company, and it might even give some a false sense of security about the robustness of controls. Requirements that go along with public listings are not best practices but baseline rules to give some level of security to investors.

Impact on the region

Apart from the obvious financial impact on the Saudi Arabian capital market, an IPO is also expected to benefit the regional economy as a whole, especially the neighbouring Gulf countries such as the United Arab Emirates, Qatar, Bahrain and Kuwait through possible new investments and greater liquidity. More companies in the region could follow suit in terms of IPOs or compliance controls. As one of the largest and most influential companies in the Middle East, Saudi Aramco is in a position to create a de facto requirement for companies to increase their transparency efforts. Saudi Aramco’s openness about production numbers and reserves could put pressure on other companies in the region to be equally open, especially those in Iran and Qatar.

Impact on oil price

The IPO is not expected to have a major impact on oil prices, but there could be an effect. Saudi Aramco is not expected to change its production strategy, as this is still dictated by the Saudi government. Aramco will only offer about 5 percent of its shares, so the new shareholders will not be in any position to change the company’s overall strategy. It is also unlikely that other oil-producing companies will change their production strategy as a result of the IPO. However, greater transparency at Saudi Aramco as a result of the IPO might provide a better understanding of the actual size of Saudi Arabia’s oil reserves and whether these have been romanticised.

Saudi Arabia has been the controlling power of oil prices for decades. When the company removed 1 million barrels per day in 1974, the result was a supply crunch and skyrocketing prices. Companies in the region and in the industry will look at Saudi Aramco if they are considering going public, as their efforts of transparency, compliance and ethics will become the benchmark for others. If there is a shortage of information provided about compliance efforts, companies later might ask “If Saudi Aramco chose not to provide this information, why should we?” and the reasons for doing so might not be persuasive enough to start a trend of openness.

However, Saudi Aramco through pioneering positive action could usher in a new era for compliance and transparency standards in the region. The international investor community will be patiently waiting to observe exactly how much data the company is willing to share to and ultimately looking to gauge whether the window provided into their ethics and compliance efforts turns out to be truly transparent or merely translucent in practice. The one thing that we can be assured of at this stage is that the Saudi Aramco IPO, however the powers at be choose for it to be eventually played out, will have reverberations in the global compliance ecosystem for many years to come.

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